Last week's notable market rebound should be viewed as more of a bear market rally rather than the start of a sustained uptrend, particularly in light of weaker earnings revisions and macroeconomic data, according to analysts at Morgan Stanley.
The S&P 500 rose as much as 5.9% last week to mark its best week of the year. However, analysts fail to get excited and attribute the jump to the decline in long-term Treasury yields.
“While we will keep an open mind, the move thus far looks more like a bear market rally rather than the start of a sustained upswing, particularly in light of weaker earnings revisions and macro data,” analysts said in a client note.
Both technical and fundamental support for stock gains seem to be lacking, with significant deterioration observed in earnings revisions breadth and performance breadth over the past two months.
Analysts suggest that a meaningful shift in these factors is necessary before being more optimistic about a year-end market rally at the index level.
“Until those factors reverse in a durable manner, we find it difficult to get more excited about a year end rally at the index level. Instead, we maintain our recommendation for a barbell of defensive growth and late cycle cyclicals.”
They recommend a balanced portfolio that combines defensive growth and late-cycle cyclical investments.
Although there has been a 7.5% earnings surprise for the S&P 500, surpassing the 4.5% historical average due to resilient profit margins, the surprise in sales has hit its lowest point since 2019, the analysts highlighted.
Analysts also pointed out that fourth-quarter estimates have experienced a substantial reduction since the beginning of the earnings season.
“We think it's prudent to deploy a stock-picking approach as stock-specific risk remains elevated for both the overall market and for the defensive growth + late cycle cyclicals cohort,” analysts concluded.